Swiss investors are facing a challenging landscape of persistently low interest rates, with the Swiss National Bank maintaining a policy rate of 0% and even negative yields on some government bonds. This surroundings is prompting a shift in investment strategies, as detailed in the following report, with analysts examining the potential of Swiss corporate bonds as a means to modestly improve returns while acknowledging the inherent credit risks. The analysis below explores the factors driving this trend and the potential for outperformance in the current economic climate.
Switzerland is experiencing a prolonged period of low interest rates, a trend expected to continue in the near term.
With inflation currently at 0% and per capita economic growth also at 0%, Swiss interest rates are anticipated to remain subdued for the foreseeable future. Consequently, the Swiss policy rate is also projected to stay at 0% for an extended period.
This environment is leading to meager returns on Swiss government bonds and savings accounts. In fact, Swiss federal bonds with maturities of up to five years are currently yielding negative rates. As a result, investors are increasingly looking for opportunities to achieve higher returns, with Swiss corporate bonds denominated in Swiss francs offering the most attractive yields domestically (see Graphic 2). However, this increased return comes with credit risk, as corporate bonds are inherently less secure than government debt.
Analysts are now examining why Swiss corporate bonds represent an appealing alternative to Swiss federal bonds in the current climate.
Modest Outperformance Potential
Corporate bonds become particularly attractive relative to government bonds when credit spreads are elevated. A positive correlation exists between entry credit spreads and the subsequent outperformance of corporate bonds over government bonds. With credit spreads currently near their historical average, a significant outperformance compared to federal bonds isn’t expected. However, even a modest outperformance is achievable if credit spreads don’t widen, allowing investors to benefit from the currently higher interest rates offered by corporate bonds. This additional return does carry credit risk, as the repayment of corporate bonds is less certain than that of government debt.
Defaults on Swiss franc-denominated corporate bonds with strong credit ratings are rare. However, corporate bond prices can decline not only due to default but also due to deteriorating economic conditions and widening credit spreads. Corporate bonds typically underperform government bonds during an economic slowdown, but benefit from narrowing credit spreads during periods of economic recovery.
Graphic 1 illustrates this dynamic, using the Purchasing Managers’ Index (PMI) for Switzerland as an indicator of economic trends.
Currently, the Swiss economy demonstrates resilience despite ongoing trade tensions with the United States. While Swiss exports are negatively impacted by high tariffs imposed by the U.S., domestic consumption and the service sector are supporting economic activity, and the economy is benefiting from low interest rates. This suggests that a significant contraction in GDP is unlikely.
The economic environment abroad also plays a role, as foreign companies are leveraging Switzerland’s low interest rates to borrow in Swiss francs at rates lower than those available in their domestic currencies.
Foreign borrowers currently account for nearly 40% of Swiss franc-denominated corporate bonds. The majority of these borrowers are based in the Eurozone. Deutsche Bahn, for example, is the largest foreign debtor and the fifth-largest issuer in the Swiss franc corporate bond index. Economic momentum in the Eurozone is slightly stronger than in Switzerland, particularly due to infrastructure projects in Germany.
Moderate Outperformance Potential
In addition to the economic environment, the individual creditworthiness of companies is a key factor in assessing the attractiveness of corporate bonds. Higher creditworthiness corresponds to lower credit risk. The universe of Swiss franc-denominated corporate bonds benefits from a distinct advantage in this regard, as the quality of the issuers is above average compared to international standards. This makes the market less volatile than its European and American counterparts. Furthermore, companies are benefiting from the current low-interest-rate environment when refinancing their debt, reducing the risk of falling into a debt spiral. Corporate bonds also have a shorter average duration than government bonds, making them less exposed to interest rate risk. The two components of risk – credit risk and interest rate risk – diversify each other in the case of corporate bonds. Historically, the volatility of the Swiss corporate bond index has been significantly lower than that of the Swiss government bond index.
Given their higher yields and a solid macroeconomic outlook, Swiss franc-denominated corporate bonds currently appear slightly more attractive than Swiss government bonds. However, with a current yield premium of just 0.7%, a substantial outperformance isn’t anticipated. We also believe corporate bonds are attractive in the long term, as fluctuations in credit spreads tend to offset each other over the economic cycle. The lower volatility of Swiss corporate bonds compared to Swiss government bonds, due to the strength of the issuer universe and shorter duration, further supports this view. As such, we consider Swiss franc-denominated corporate bonds a worthwhile structural addition to a portfolio, helping to address the lack of investment options in the current low-interest-rate Swiss environment.
Strategies in a Low-Interest-Rate Environment
In a challenging interest rate environment, a well-founded and personalized investment strategy becomes increasingly important. The private banking services of Zürcher Kantonalbank help achieve financial goals with a clear understanding of opportunities and risks. The focus is not on short-term trends, but on sustainable and well-considered solutions.
